Retiree health care costs could drive Pontiac into bankruptcy

By Dustin Blitchok, For Journal Register Newspapers

Sunday, November 11, 2012

PONTIAC — July 1, 2013.That’s when a structural budget deficit caused by $180 million in future retiree health care costs will rear its ugly head again and threaten to drive Pontiac into bankruptcy, according to the city’s emergency financial manager, mayor and finance director.

Days after voters repealed Michigan’s emergency manager law and Pontiac voters overwhelmingly rejected a millage to pay for retiree health care, city officials are proposing the privatization of a city pension plan that’s 150 percent funded, then taking the leftover 50 percent and placing it in a trust account earmarked for retiree health care.

One municipal finance expert said it’s a groundbreaking idea.

“I have never seen, in my memory, a situation where a (pension) issuer is trying to do it retroactively: Taking existing pension benefits and privatizing (them); I have not seen it. It’s an interesting idea,” said Dick Larkin, director of credit analysis at the Iselin, N.J.-based investment firm HJ Sims. Larkin is the former chief municipal rating officer at Standard & Poor’s.

Mayor Leon Jukowski said the city has pension obligations to about 1,000 retirees. Current city employees are on a defined contribution plan, so the city’s pension plans are “closed,” meaning no employees will join them in the future.

“We think that we have more money than we need to cover those obligations, so we (could) go into the market and buy an annuity equal to the retirement benefit due for every person who has a benefit coming. If we do that, we set them all up with an annuity that covers their retirement obligation, (and) there’s money left over that the city can use to cover retiree health care,” the mayor said.

Emergency Financial Manager Lou Schimmel said: “If they don’t eliminate retiree health care or (go through) with the privatization plan ... the only option left for this city is bankruptcy.”

Finance Director John Naglick said the conversion of pensions to an annuity is known as “de-risking.”

“Our board is managing a $424 million fund. Yesterday, that fund probably lost 2 1/2 to 3 percent of its value, so we lost $12 million” when the stock market dropped on Wednesday, he said.

“That means you’re at risk: We’ve got $424 million riding on the market and every year, we pull money out of our $424 million to cover these retirees’ benefits. De-risking would say, ‘Geez, why take a chance?’ If you’re overfunded, why don’t you de-risk ... take this money out of the market, go to a big insurance company, like Prudential or MetLife, and say, we’ve got 1,118 beneficiaries. We’d like to buy a contract from you; you make the payment to those people,” Naglick said.

Municipal finance expert Larkin said pensioners might be scared by the proposal.

“If you could do it on a risk-free basis and (a) pensioner is going to get the same payments as the city promised, I would think the pensioners would not be put at risk by doing this,” he said.

“Both municipal bankruptcies and bond defaults by cities are very, very rare,” Larkin said. However, the analyst said three California cities have filed for Chapter 9 bankruptcy protection this year, most recently San Bernardino.

“I think they’re saying, we’ve been trying to manage our finances, things went against what we thought was going to happen, and I think they’re just throwing up their hands,” Larkin said of the bankrupt cities.

“In my experience ... cities do everything they can to avoid municipal bankruptcy,” he said.

Pontiac’s deficit was resolved this year by proceeds from a recently closed $55 million deal to sell excess capacity in the city’s wastewater system to the Oakland County Water Resources Commission, but beyond 2012, the cost of health care for retired employees creates a $6 million annual budget deficit.

Several lawsuits have been filed against the city over missed annual payments to its health care VEBA’s, or Voluntary Employee Benefit Associations.

On Tuesday, voters turned down a 6.5 mill tax increase floated by Schimmel to pay for retiree health care costs.

Of those who voted, 78.67 percent voted “no” on the millage proposal and 21.33 percent voted “yes.” If approved, the millage would have collected an estimated $5.1 million in its first year.

“I certainly thought it would fail, but I didn’t want to be in a position where someone would say, ‘Well, you never even gave us a chance to vote on it.’”

Schimmel compared the concept of using pension money for health care to this fall’s wastewater deal with Oakland County.

“How can I use this overfunding to help Pontiac’s problem?” he said. “There is a way, and I would have done it, had I had enough time under Public Act 4. I can’t do it now with Public Act 4 gone.”

The emergency manager law was suspended on Aug. 8 when Proposal 1 was placed on the ballot at the direction of the Michigan Supreme Court, and repealed when a majority of statewide voters cast a “no” vote on the proposal on Tuesday. Schimmel is working under Public Act 4’s predecessor, Public Act 72 of 1990. There is a pending lawsuit against the state challenging the older law’s revival.

Schimmel said the long-term health care obligation is “the last piece of the puzzle that has to be solved” to right Pontiac’s finances, which have been under state control since 2009.

Mayor Jukowski said dealing with the health care liability is the path back to local control.

“The best proof that we can get that this city is capable of governing itself, and doesn’t need Mr. Schimmel or any other emergency financial manager or emergency manager, is for the mayor and council and retirement board to get together and do this,” he said.